Yesterday, I wrote a post about my withdrawal strategies and there were some comments about Roth IRA conversions that have me reconsidering my strategy:
The Physician on FIRE and Done by Forty echo this strategy:
I had mentioned that one of my goals was to draw down 401(k) accounts before age 72 to reduce the hit from Required Minimum Withdrawals. I had planned to start doing this at age 59.5 when Mindy and I become eligible for withdrawals.
However, I could start converting to a Roth at any time; no need to wait until age 59.5. Since the converted money is taxed as ordinary income, I would wait until Mindy quits work to reduce our tax burden. Here is my new strategy, changes in yellow:
- Retirement to 59.5: Convert some 401(k) money to a Roth IRA every year. Withdraw money from post-tax accounts or principal from older Roth IRAs to live on.
- 59.5 to 72: Continue to withdraw from 401(k)s to minimize RMD hit.
- 72+: Live off of RMDs. Supplement with Roth and post-tax accounts as needed. Yell at children on the lawn.
- Kick the bucket: Leave a little to the kids and a lot to worthy causes.
I like this strategy a lot. If Mindy quits work at the age of 48, we have 24 years before RMDs kick in. We could draw down a lot of 401(k) money in 24 years.
Roth conversions are also insurance against tax hikes. The US is going to have to raise taxes. Once I convert my 401(k), I’ve locked in future gains and protected myself from higher taxes.
Health Care
I didn’t write about what we’re going to do for health care because I don’t know. Our plan had been the ACA, but that may pass with RBG. We’d consider a health care sharing organization or maybe a direct primay care plan.
Before you sound the alarm bells:
Chronic conditions!
Cancer!!!
Heart attack!!!
Know that I just don’t know right now, but I do know that I’ll consider catastrophic health issues in our plans. Health care is hard. The American system doesn’t work well and I don’t have answers. I’ll evaluate the options when the time comes.
One option which we’ve been thinking about lately is moving to a country with a more reasonable health care system. Health care isn’t the primary motivation for a move like this, just a happy side benefit.
One More Thing: College!
We didn’t like the college savings plan that Colorado offered, so we didn’t sign up for it. We plan to help the girls, but I also want them to have skin in the game.
I paid for my own school through loans and I appreciated the hell out of the college experience. Knowing that I was paying for it made me choose a major wisely (“I’m going to have to pay these loans back when I’m done!”) and made me study hard. Magna Cum Laude baby!
But, I don’t want my children saddled down with tons of debt either. So, I may have them take out loans and then swoop in at the end and pay them off. We’re still figuring it out and some of the decisions will depend on how much money we have when the girls reach college age. If we’re doing really well, maybe we’ll throw in a car too.
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My wife and I graduated from college debt-free, thanks to academic scholarships (she earned an in-state free ride) and parents (in-state and 24 years ago, before tuition went nonlinear). She majored in psychology — useless until you earn a doctorate — and I majored in music performance, which has come in handy over the last couple decades but only as a glorified hobby. Good fortune, the right attitudes, and a splash of privilege helped everything somehow turn out for the best. I remember acting like a little sh%t toward my parents, though, complaining in my early twenties that they didn’t pressure me to get a more lucrative education. Some of us grow up slower than others.
Looking back I strongly suspect your way would have been preferable. Being primarily responsible for funding my own studies, especially with a bit of a safety net? Over a four-year span I would’ve probably given up ten hours a week of fun in favor of ten hours a week of studying toward a useful degree, and ended up much better prepared for… well… everything.
Have you looked at the Utah 529 plan? The customization investment options appealed pretty strongly to us in terms of growing tax-free funds for college payments down the line.
I have not, but will now! Thanks for the suggestion!
I live in Utah and we have used this plan for 16 years for our kids. It is one of the best 529 programs in the nation.
I’m surprised you plan on leaving only a little to your kids and on giving the bulk to nonprofits. I inherited a million dollars from my parents, as did my brother. We were both grateful for that last gift. I certainly did not need the money and will pass it and much more on to my kids some day. But I would have been hurt had they given it away to others. I am surprised is all. I may give some to causes too, but I can’t imagine not keeping most of the money in the family. By the time you die there is a very good chance your health needs will require much care giving by your grown kids. I want mine to know there is a reward for that difficult phase of life when they may be sandwiched between their parents and their kids.
Not speaking for Mr. 1500 here, but we’ve made similar considerations about where our future (hopeful?) nest egg will go once we’re long gone.
Folks on a FIRE track tend to be big on min-maxing, systemizing, and considering the total benefit of a dollar, how it’s spent. For example, if I have friends over and we’re getting takeout, I’ll happily pay for the entire meal if I’ve got 50% off at DoorDash but my buddy doesn’t. Even if the net cost to me is higher, the net cost for us is lower–I’m more interested in maximizing that dollar for us than for me. When considering leaving wealth to family, it just doesn’t seem like a great use of the assets. Effective Altruism, working with nonprofits that do great work seems like a more productive use of the capital as it can have a large impact on countless people.
On top of that, I can’t imagine the 1500s won’t supply their children with all the legs up any middle (upper middle) class family in the US normally would: secure home, loving family, strong education, and time invested.
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Some others have suggested that I help my children long before I buy the DIrt Farm. I think that this is a wonderful idea. Help with a car and home purchase post-college could set them up for life. I like this a lot.
I just don’t want to see money squandered. I REALLY hope that I can teach my kids to appreciate it at a young age.
My 9 year old was listening to his teenage sister and her friends talk about college, majors and their life plans. (Side note: If you want to be hopeful for the future, eavesdrop on a group of teenagers talking about their futures.) One of them asks hypothetically “How do you become successful? ”
9 year old says with no hesitation “Invest!” Proud parent here.
He has an UTMA account in his own name (that is the key) and we look at the graphs every couple of months and see how the amount grows and why.
I have no doubt your girls are aware of what you are teaching them.
Heh, I just posted a comment on the last post pushing what PoF was saying as well–didn’t catch this update in time 🙂
“One option which we’ve been thinking about lately is moving to a country with a more reasonable health care system.” – isn’t it wild we are in such a situation that this is even a genuine (passing) thought? You’d think coming up with a solid solution to the underlying healthcare cost problem in the US would be a big selling point for the entire country as a way to keep folks in the country, attract business, and attract outsiders to consider retiring here (and spending their own money).
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“You’d think coming up with a solid solution to the underlying healthcare cost problem in the US would be a big selling point for the entire country as a way to keep folks in the country,”
This is a powerful point. How do I vote for you for president? 🙂
How are you going to give $40m away if you’ve never practiced?
Haha, but true. Thanks for the kick in the pants! 🙂
My husband and I would like to retire in a few years. We’ll be in our late 40s and expect to have roughly $2m in assets. Our withdrawal plan looks much like yours with the addition of an HSA. Right now we pay health costs out of pocket and keep good records. The rule is that you must have the money in the HSA before the medical cost is incurred, but nothing says you have to take the distribution right away, so we’re letting it grow tax-free.
Health ins. and college are our biggest concerns. We just don’t have a good feel for how much they will cost. Unfortunately, State U. isn’t a great option, since our state is generally ranked 48th or 49th in education spending and the schools reflect it. We’re still debating, but I think we’ll end up setting aside a specific amount for both kids. If they go over, they’ll have to make up the difference. If they go under, they can use the remainder for a car, a house down payment, stock investments, or plastic dinosaurs. I think that would create some “skin” in the game, while still giving them a good start on life.
We are also doing this with our HSAs. Paying out of pocket and keeping receipts to allow for tax free withdraw on past medical expenses or for future expenses.
Wow, your college plan is identical to what I was thinking we’d do for our kids. I like it because it incentivizes the kids to think carefully about the situation: “If I pick a cheap school, I can have a car too!”
No surprise, I think the updates sound like a good plan 🙂 I will give you one more suggestion to think about if you haven’t already that will line up with your charitable giving plans. Start your own Donor Advised Fund (DAF) for charitable giving. This allows you to shift when you recognize giving into a year of your choosing, but then allows you to “advise” or control when and where the money is distributed later. It also allows you to invest the money before it is distributed to have it grow.
Couple other benefits I appreciate:
1) You can time giving with higher tax years to maximize your tax savings. Bummer it doesn’t reduce MAGI, but it can still help.
2) You can stack giving every other year (what we are doing right now), to make better use of the standard deduction. We give over 10% each year, but a lot of this gets swallowed by the higher standard deduction. So now we give 0% one year, and 20% the next year (also shifting property taxes into the second year). This allows us to get higher overall tax reduction, while still allowing us to spread out consistent funding for the non profits we support
3) Control all your giving from one place, and not have to worry about multiple receipts. sometimes you have to submit a charity for consideration and it takes a little bit of time for them to verify it. But overall this has been a time and complexity saver.
I am currently using Fidelity’s DAF and have been happy with it and the investment options in it. Right now not doing a ton of investing, but plan to more in the future. Anyway, just something else to consider 🙂
Lucas, thank you for another excellent and thoughtful suggestion. I appreciate your comments!
Hello,
Please include the rule of 72t as an option. I didn’t see it mentioned. In this case you could “turn it on” and withdrawal money from your 401k without the 10% tax penalty. Give you will be with in tax guidelines you’ll also have to pay very little if any income tax on it. This allows you to get money out of the 401k and into other things….Say a Roth. If your 401k doesn’t allow it, roll it to an IRA and “turn it on” from there. While the Roth conversion idea would fits well for your strategy more people need to know how the Rule of 72t works. It could produce some “living expense” income when retiring really early, aka before age 55.
Rule 72(t) allows penalty-free withdrawals from IRA accounts and other tax-advantaged retirement accounts like 401(k) and 403(b) plans. … This rule allows account holders to benefit from their retirement savings before retirement age through early withdrawal without the otherwise-required 10% penalty.
I had looked into 72T, but found the rules pretty complicated and inflexible. Yes this works to bypass the withdrawal penalty, but you can make no changes to the program at all until you hit retirement age, and if you withdrawn the wrong amount there are penalties involved. I think 72T would work best for those who have almost all of their savings in 401k/IRA with little taxible savings. This allows more immediate access. For those with substantial post tax/taxible savings and/or any continued income potential I think the rolling roth conversions is a far superior option.
In terms of flexibility you are right, but you can make one change during your withdrawal period before you reach 59.5. My thought is to have it started, and if interest rate go up and you can withdrawal more, you could implement that change. Don’t let complicated hurt the decision making process. Some of this FIRE stuff is complicated, but doable.
I know we cannot predict the future, but if this US has to raise taxes, what’s to say they won’t go after the ROTH accounts. I know this is would be wildly unpopular, but it is the government and I would put anything passed them. I certainly hope this doesn’t happen, as I put plenty into Roth accounts.
As for college, my wife and I agree we will pay the equivalent of state college tuition (plus room and board) for our children. We save in a 529 (our state gives a 20% refundable credit on the first $5K you put in each year!) and my dad does the same for each of his grand children. Not having student load debt is such a leg up it isn’t even funny.
“I know we cannot predict the future, but if this US has to raise taxes, what’s to say they won’t go after the ROTH accounts.”
This is something I’ve thought of, but I think the government would tweak tax rates before they’d touch money that’s already been saved. But I agree; anything can happen and flexibility is key.
“Not having student load debt is such a leg up it isn’t even funny.”
Yep. All things being equal, my nest egg would probably be double what it is now if I had not had $60,000 in debt.
I’m glad that others mentioned the Roth IRA conversions, because that’s a key part of our strategy as well and I was surprised not to see it in yours.
Since you’re now thinking about the potential role of geographic arbitrage in solving the long-term health care problem, I’d love to read more about your thoughts as they develop. We’re looking at geographic arbitrage both for health care reasons and as climate change mitigation (both in terms of moving somewhere that looks to fare better over the coming decades, and in terms of moving somewhere where we can anticipate shrinking our carbon footprint significantly).
At present I’m trying to score a job opportunity in our top target country so we can relocate, with an eye on ultimately satisfying the conditions for permanent residency and/or naturalization. (This may entail extending our FI timeline a couple of years beyond what it would otherwise be, but I figure diversification of our legal residency options is also an important part of the portfolio!) I can only imagine that your own potential relocation would not involve getting a work visa, so you’d have to be thinking solely of countries with a lower bar for entry–and I’d therefore be interested to learn what you find out as you investigate your option space.
“Since you’re now thinking about the potential role of geographic arbitrage in solving the long-term health care problem, I’d love to read more about your thoughts as they develop.”
Yeah, it’s sad that a country like the United States fails so bad here (and in climate change). Maybe private industry will help? I know jeff Bezos, Warren Buffett, and Jamie Dimon are working on health care. Musk is propelling the move to electrification forward. It would all happen much faster with strong government support though.
Moving away: Yeah, we’ve been looking at countries that have wealth tests. Some also ease restrictions if you can speak the language which seems very fair to me. Regarding the latter, we’d figure out some way to do an intense immersion program.
What’s a “wealth test” country?
Can you please share what you’ve learned about this idea (moving away from the US without having a job/sponsor)?
The healthcare is a concern for everyone. Wish it would get resolved and not go back to pre-Obamacare days.
Worst case I see states like California creating their own exchanges. Smaller states might have challenges but SF has already had a SF health program for a few years.
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I agree with you on states taking care of their own. This won’t be quite as efficient as a national program, but could still work.
If you qualify for life insurance, you can get off the radar screen of the IRS forever by using the tax code. I believe taxes are going way up in the future and I and others have a choice to not pay them if we plan right today. This goes against the grain of 99% of financial advisors, but I’m okay with that.
Thank you for sharing this useful and valuable information.
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Thanks for the shout out, friend! That’s what we’re planning on doing, too: when our income is low, converting some of our 401k & Traditional IRA funds to the Roth IRA, and letting it sit for 5 years.
Healthcare is a much bigger concern now, as you note. I fear the ACA is now pretty unlikely to survive, and that obviously will wreak havoc on a lot of FIRE plans.
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Could you convert the max amount you can from a 401k to Roth before you start getting taxed, and then withdraw from your Roth contributions for living expenses?
Curious to hear more about why you don’t like Colorado’s 529 plan.
I like the idea of swooping in to pay off the student loans after the kids have graduated. That’s my plan too. Student loans don’t start accruing interest until after graduation, so it makes sense to have that money invested for the 4 to 5 year duration.
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One thing I didn’t see above, You can make your RMDs nontaxable by doing a direct transfer to a charity. So if you already donate to a church or other charity, have the custodian cut the check directly there,